FHA Credit Tightens, Housing and Politics, TBW Fraud Update, ATR, and Credit Standards

Just some of the topics we're looking at this week

FHA Credit Tightens:

Mortgage Media is interested in the move by FHA Commissioner Brian Montgomery. As National Mortgage News reported, “Effective for case numbers assigned Monday, the FHA is making a change to its Technology Open to Approved Lenders Mortgage Scorecard system that reinstates manual underwriting requirements for certain mortgages with credit scores below 620 and DTIs above 43%.”

We view this as a step in the right direction to protect a program where adverse selection has proven in the past to threaten its viability. As NMN stated, “The average FHA credit score, at 670, is the lowest it has been since 2008. More than 28% of the traditional single-family loans the FHA endorsed during the first quarter of the current fiscal year have credit scores below 640, and more than 13% of all traditional single-family mortgages the FHA endorsed during the same time period had credit scores below 620. Additionally, there is an increasing concentration of loans that have both credit scores below 640 and DTIs above 50%, according to the FHA.”

We view risk layering as a key variable to how housing bubbles reach a tipping point. We also have been watching the trend with particular focus on the institutions leading the expansion of credit curve. The Urban Institute’s February Chartbook has several slides breaking down both credit score distribution and loan to value.

As noted in these two charts from the report, banks to date have resisted moving to lower FICO scores and have been likewise less inclined to permit higher DTIs.

We find it interesting that this underwriting change falls short of creating a hard boundary and instead moves these loans to manual underwrite status. Should these lenders, many of whom are non-bank, continuing doing these loans as manual underwritten approvals, it may only increase the contingent liability on these institutions in the next default cycle. Whatever these lenders choose to do next, the balance between credit availability, sustainable credit, and protecting the FHA should be something that institutions like the MBA take into consideration.

Housing and Politics

With no political bias, we are watching the Presidential Candidates running for the 2020 election to see which of them might make a proactive statement about housing. We were pleased to see Senator Warren come forward with a plan and are hopeful the others will do the same. Her plan does not surprise in its progressive lean that includes a focus on affordable rental housing, increasing housing for lower and moderate income buyers, narrowing the racial homeownership gap, and attacks on “Wall Street” firms that have purchased and even securitized large volumes of entry level homes. She proposes some new subsidies that would come from increased taxes to the nations’ most wealthy 14,000 families, and new ways to look at CRA which would include obligations for non-banks. We were pleased, however, to see her address the restrictive zoning and other laws at the state level that adversely impact the development and building of more entry level housing. While Mortgage Media will not weigh into politics, we will continue to push for all candidates to share their housing plans regardless of party and look forward to reporting on others as they come forward.

TBW – The Last Chapter?

In what is likely the final chapter of Taylor Bean and Whitakers massive fraud scheme and dramatic collapse, Price Waterhouse Coopers has reached a $335 million dollar settlement with the FDIC. As reported by HousingWire, PWC was the auditor for Colonial Bank who was found to be directly involved with TBW’s fraudulent activity of sweeping funds back and forth between Colonial and TBW, headed at the time by Lee Farkas who is now serving what remains of his 30 year prison sentence. In the end, the once huge mortgage lender with over 2,000 employees swept funds covering over $500 million in fake loans on their books. PWC already paid $625 million last year in a separate case related to the same collapse. This is a harsh reminder to all of us in Mortgage Finance to be weary of the risks of those who take unusual or illegal advantage in a complex financial system like the one we are all engaged in one way or the other. TBW won’t be the last company to be led by someone conspiring to break the law and we at Mortgage Media believe it is the responsibility for all of us to be watchdogs over an industry whose reputations can all suffer by the acts of others. We are reminded that some who knew of Lee’s corruption failed to share it broadly and much of this damage could have been avoided or mitigated had it been known sooner.

We are reminded that mortgage fraud will always be a risk. Just this week Market Watch reported that Paul Manafort has now been charged with mortgage fraud, highlighting in their story that “it’s not that uncommon.”

As Market Watch warns: “More cases like Manafort’s could start to come to light as the housing market cools after years of record-breaking home price appreciation.” As the article highlights the common forms of fraud, it goes on to warn that “Fraud happens a lot of times because somebody’s desperate.”

They conclude with the warning that you “don’t typically see the fraud until the foreclosure”, an ominous reminder as we all wonder when the next economic contraction will come. For anyone with extensive experience in this industry, experiencing fraud at some level is not question of “if”, but “when”. Vigilance is a learned lesson.

Ability To Repay?

In the midst of statements by CFPB Director Kraninger at her March 12 Senate Hearing where she discussed the need to replace the QM patch with a more permanent rule, Mortgage Media is reminded of all the mortgage products that were outlawed by legislation under the Dodd Frank Act. These include the following list as highlighted in a well-done write up by Urban Institute:

“In addition to the verification and documentation of borrower income and assets, all qualified mortgages should generally meet the following mandatory requirements:

  1. The loan cannot have negative amortization, interest-only payments, or balloon payments.
  2. Total points and fees cannot exceed 3 percent of the loan amount.
  3. The mortgage term must be 30 years or less.
  4. Adjustable-rate mortgages must be underwritten to the maximum interest rate applicable during the first five years of the loan.
  5. Prepayment penalties are generally permitted but subject to a three-year phaseout.

Overreactions in legislation can have interesting outcomes. For example, the list above essentially would blockade the majority of mortgage products available in Western Europe. In the UK for example, a majority of loans are based on a three or five year balloon that renews after the initial term at prevailing rates. This week The Daily Mail is highlighting the expansion of mortgage programs in Great Britain to include a large growth of 40 year mortgages.

“More than half of all mortgage products now have this option – compared to only 36 per cent five years ago. It suggests buyers are having to take out loans so big they cannot repay them within the traditional 25-year limit.”

The article points to the affordability challenges of traditional 25-year term loans, the common maximum amortization term in the UK. But they highlight desperation of prospective homebuyers who need this loan to get a foothold into homeownership. And while warning that this could mean some borrowers might have their loans well into retirement, it is clear that for many the payment difference could make the difference between owning and renting.

It’s interesting to note the point that the solutions for homeownership in the UK are largely based on loans illegal in the US post Dodd-Frank. We wonder where the public policy should rest.

Take a look at the graph from the Federal Reserve of St. Louis. Since 1975 home prices have risen over 400% and that includes several recessions including the Great Recession that motivated the rules established under Dodd-Frank in the first place. On the one hand one can argue that sustainable loan features supersede a citizen’s desire to own a home. On the other hand, the proven value of accumulated wealth in home-equity has been a core driver to long term financial well-being for millions of Americans.

Striking the Right Balance

We note this week that FHA modifications to credit standards are to be applauded. At the same time, we note that a global look at housing and mortgage product availability can have adverse outcomes one way or another. Either they can promote bad behaviors and unsustainable outcomes if overly extended, or they can restrict access to homeownership if excessively constrained. And while we are pleased to see an actual plan from one Presidential candidate, we believe that housing policy should be a required plan coming from all candidates. And finally, we are ever reminded that fraud is a risk, there are bad actors that will take advantage, so whatever policies are put forth in the years ahead to improve the balance in access and sustainability it is incumbent on all industry stakeholders to weigh in and take responsibility so that we can avoid over corrections in the future.